CRYPTIC CRYPTO

Is the value worth the hype?

What comes to mind when you think of cryptocurrency? For many it’s just Bitcoin. Mostly overlooked are the other 10,000+ cryptocurrencies actively traded, with a combined market capitalisation of $1.4 trillion at time of writing. Bitcoin constitutes only 44% of this value, with the remainder coming from smaller alternative coins, dubbed ‘altcoins’.

These altcoins have seen an explosion of interest over the past months, with paper millionaires being made from four-figure initial investments in mere days. For one, the most famous of the altcoins, Dogecoin, was recently popularised by tweets of approval from Elon Musk, thus contributing to a 158,000% return within the first half of 2021. With prominent figures such as Elon Musk implying certain cryptoassets are undervalued, it raises questions. Where does this value come from? Are these cryptoassets worth the price, or is it all a load of hot air?

Each of these coins are different in some way, and to understand a coin’s potential value (if any) it is vital to understand what the purpose of the coin really is, usually ascertained from its whitepaper (document detailing all details regarding the coin). This will uncover its value proposition, typically required to drive demand and subsequently its price, and could be a certain utility, technology, or service for which the coin is required to redeem such functionality.

A clear example of utility driving a coin’s value is Ethereum. Ethereum is a blockchain (like a ledger), in a similar fashion to Bitcoin, except it facilitates the creation of ‘smart contracts’. These are self-executing contracts with immutable terms of agreement programmed into code. They can therefore be used for trust-less transactions, thus enabling ‘decentralised applications’ (dapps) which remove the requirement for a trusted third party intermediary.

This gives rise to a compelling form of finance known as ‘Decentralised Finance’ (DeFi), which will help shape the future landscape of financial services by removing the middleman. Clearly there would be demand for this promising change, however to create and use these dapps the ‘miners’ who contribute their processing power to make it all possible must be incentivised. They are therefore paid by those who are using Ethereum via a small transaction fee paid in Ether. There is therefore a demand for Ether, which intuitively (by supply and demand) will result in a logical price increase, and an indisputable value proposition.

"Dogecoin has no utility, it provides no functionality, there is no service or any advantage to be gained from the coin."

Further to this, many DeFi-related altcoins are built on the Ethereum blockchain. These are therefore most commonly traded by buying and selling with the Ethereum cryptocurrency, Ether. Consequently, to acquire these altcoins and use their unique utility, one must first buy Ether to use as the currency to buy the altcoins with, further propagating demand for Ether derived from demand for other altcoins, and thus its value. Examples of such altcoins include AAVE which facilitates peer-to-peer lending, Unistake (soon ‘Liquidy’) which facilitates vital liquidity provision for other altcoins, and DEXT which provides traders with access to trading services and enhanced market insights. Each of these altcoins have the demand for their utility tied to the demand for the coin, in a similar (but unique) fashion to the Ethereum ecosystem described.

From an ‘investment’ perspective however (more of a gamble given the number of unknowns involved), it is worth noting that Ethereum already has a very high market cap, suggesting that despite this strong value proposition the risk posed from how far the price can fall due to being overvalued may outweigh the potential returns. Greater opportunity is presented from coins with lower market caps which are yet to be widely known, an example of which may be Solana ($33 at time of writing) which solves problems associated with Ethereum (slow and expensive) yet hasn’t currently gained traction.

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An artist's impression of the Dogecoin cryptocurrency. Credit: Executium

With these examples of genuine value in mind, let us now consider Dogecoin, which has been repeatedly endorsed by the self-proclaimed ‘Dogefather’, Elon Musk. Interestingly, despite its overwhelming demand and enormous market cap, there is arguably no legitimate value proposition to the extent that no official whitepaper even exists. It has no utility, it provides no functionality, there is no service or any advantage to be gained from the coin.

That said, there has recently been a plethora of ‘meme coins’ like this which have seen enormous returns, with no intelligible argument for their demand, yet they have outperformed those with a legitimate value proposition. Why do some coins which provide no value at all outperform those that do have a true value proposition?

The only explanation for this is hype and manipulation, while money follows this hype and market trend to further propagate the effect. Inexperienced traders are often (perhaps naively) attracted by coins which have already increased in value several times over, expecting that a coin will continue its trajectory, despite it already being driven by very little aside from its previous price action.

YouTubers, influencers, and media outlets relentlessly broadcast such coins, yet they are almost always solely self-interested, with their only goal to incite a fear of missing out. Since the vast majority of these media outlets are indeed acting purely acting out of self-interest, nobody can be trusted for financial advice in cryptocurrency. It is therefore vital to independently analyse a coin’s value proposition, and the mechanism by which demand is driven when trying to determine what’s genuine value, and what’s just hype.

So, what does Bitcoin provide? You decide.

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